The Pips Sqeak Back

With the steady decline of the financial industry, the public perception of those who deal with money is turning negative. The rich are under attack. But as Bill Bonner points out, maybe putting up with the rich is not such a bad idea.

Not since the fall of the dotcom impresarios has a group seen its stock marked down so fast. A few months ago, the masters of the universe were the masters of the universe. Here in England, the British thanked the financial industry for the island’s remarkably puissant economy and inclined its neck towards the City (Britain’s equivalent of Wall Street) as though to the passing of the True Cross. Never had so many owed so much to so few, as Churchill might have described it, followed by a malicious chuckle. Now, it seems the financial geniuses are blamed for everything…from the losses at AIG to the decline in housing prices to the lack of parking places. What has happened?

It was the "biggest failure of ratings and risk management ever" said analysts at UBS. As the tide of cash and credit subsided, in Warren Buffett’s beautiful metaphor, we got to see "who’s been swimming naked." Not a pretty sight.

Prevailing opinion is that the financial engineers made ‘mistakes;’ they forgot to put on their bathing suits. Now, everyone is pointing at them and laughing.

As the price of subprime debt plummeted, so did the reputation of an entire profession. All of a sudden, everyone who touches money for a living is suspected of being a rascal. And every one who has a lot of it is thought to be a scoundrel. Week after week, the press targets another victim – bankers…mortgage lenders…German tax evaders…hedge fund managers; first one, then the other, they are singled out for abuse, ridicule and reprisal. The whole moneyed class has been downgraded from a triple A credit to junk debt – especially those rich, privileged few, the ‘non-doms,'(people who live in Britain but are not British citizens) who don’t have to pay rack rate U.K. taxes.

Of course, even when they are making money, the scheming rich have few real friends. And when they lose money they are as unwelcome as smokers. Even the editor of our own MoneyWeek magazine, Merryn Somerset Webb, and one of our leading columnists, Simon Nixon, have argued in favor of squeezing their own London-based publisher…yours truly.

"Why are people who have been based here for 20 years allowed to claim that the U.K. is not their domicile in the first place?" Merryn wants to know. "And having done so, why are they allowed to pay practically no tax and then pretend that this situation is good news for the rest of us?"

There are matters of principle. And matters of practicality. Merryn is arguing the principle of the thing. "It’s not fair," she might have said.

Simon is concerned with the practical issues. If the non-doms leave, won’t they pack up Britain’s miracle money machine in their luggage and take it with them? Don’t worry, says Simon, they’re not going anywhere:

"The only places in Europe where non-doms can expect better treatment are traditional tax havens, such as Monaco and the Channel Islands, or Ireland, which operates a similar non-dom regime to the United Kingdom. These aren’t serious rivals to London."

But here on this little page of The Daily Reckoning, at least, we always take the side of the underdog, even a mangy one. We rise to defend this whole class of econopaths and lucred loners – especially the non-doms – neither for reasons of fairness nor practicality, but for the simple reason that we are, statistically and legally, among them. No, it’s not a matter of principle. It’s the money.

There is nothing new…and nothing local…about this phenomenon. Instead, it is cyclical. Labor minister Denis Healey got some mileage out of attacking the rich in the ’60s. He promised to squeeze them "until the pips squeak." Britain sank into a dreadful slump largely as a result.

And in the United States today, the desire to punish the rich is growing. "I’m not against the hedge fund manager," said Mike Huckabee; he might have added that some of his best friends were hedgies.

"Unfettered capitalism is not something I support," added Republican contender John McCain.

As for the democrats, they are ready to attack the rich, excluding campaign donors, of course, as soon as they see the whites of their eyes.

All of which just goes to show that the whole boom was based on false pretenses from the get-go.

In Britain, for example, we are faced with having to pay the British government an additional 30,000 pounds (we already pay tax in Britain on our U.K.-source revenue…and taxes elsewhere, wherever the money is generated). The extra charge might not cause us to leave the country. But we will be getting our bags together, just in case.

Most likely London’s major industry – finance – is in decline. And most likely, the departure of a few non-doms is not going to make much difference. But, at the margin, who knows? If the financial industry is in a slump and, on top of that, a substantial number of non-doms take their credit cards and leave, London could suffer. A logical analyst might conclude that the city has more to lose than to gain by taxing the non-doms now.

But one of the foundation delusions of the whole Reagan/Thatcher boom era was that people always respond directly and logically to financial incentives. "Homo Economicus" was said to always make rational, wealth-maximizing decisions. In fact, he’s an imposter. Real man is often more driven by envy than the desire for absolute wealth. And we can prove it.

Behavioral economists conducted an experiment in which people were offered $100, on the condition that they share it with someone else. If they couldn’t strike a deal as to how to divvy up the money, quickly, they got nothing. Logically, the second person should agree to anything, because it was free money. But researchers found that if they were offered anything less than 30%…they refused; it just wasn’t considered fair. Likewise, Britain is probably better off offering shelter to the footloose exiles, no matter how little of their wealth they choose to share. But envy pushes the politicians and its citizens to insist on a fair deal.

Americans, too, would be better off just putting up with the rich…no matter how loathsome they appear.

Enjoy your weekend,

Bill Bonner
The Daily Reckoning

February 29, 2008 — London, England

Bill Bonner is the founder and editor of The Daily Reckoning. He is also the author, with Addison Wiggin, of the national best sellers Financial Reckoning Day: Surviving the Soft Depression of the 21st Century and Empire of Debt: The Rise of an Epic Financial Crisis.

"The first quarter will be ugly," said an analyst at Deutschebank after looking at the latest report on the fourth quarter.

In the last three months of 2007, the U.S. economy neither grew nor shrank. Instead, it just came to a halt. The official report shows GDP rising at an annual rate of 0.6%. The previous three months showed growth of over 4%.

What is happening is what is supposed to happen and what we’ve been waiting to happen but so far hasn’t happened – the United States is entering a recession and is probably in one now.

New jobless claims are up more than expected, says one report. The economy is softening more than expected, says another. More bad news: mortgage rates are going up.

The feds, you’ll recall, are far more interested in fighting recession than they are in fighting inflation. That’s why the dollar is falling…about which, more in a minute. But in the battle between the feds and deflation…it appears that the feds are getting their derrieres kicked. And they’re losing the non-battle against inflation too. The cannon to the left of us and the cannon to the right of us volley and thunder no matter what the Fed does.

Yes, dear reader, as you sow…so shall ye reap. The feds sowed inflation – and now they’ve got a bumper yield of it. They planted a good crop of deflation too – by encouraging so many bubbles and so much debt. They’re going to fill the silos with that too.

And what can they do about it?

"The Fed is not really in control of the situation," says Paul Volcker, former Fed chairman and the last man at America’s central bank to protect the dollar.

In trying to fight deflation rather than inflation, the Fed chose the wrong enemy, in our opinion. At least it could win the fight with inflation. Paul Volcker proved it was possible. The fight against deflation, on the other hand, is a losing proposition. When Mr. Market wants to deflate, there is not much a central bank to do to stop it; Paul Volcker’s Japanese counterparts proved that.

Has it come to that? Are we finally come to the grim harvest we predicted in this spot eight years ago? Are we now, at long last, faced with a long, slow slump a la Japan?

The United States "risks a lost decade like Japan," says a headline in the London Telegraph.

"Is America heading for a Japan-style crisis?" asks a headline in our own MoneyWeek magazine.

The answer to this quest

The Daily Reckoning